Contrarian Investing : For the Bravehearted!

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Recent rallies in IT, Pharma and  Sugar – apart from the increasing optimism around Axis Bank’s revival (not a favorite) and a possible blow to Yes Bank (everyone’s favorite!) because of Rana Kapoor’s exit, has brought back to fore the value of contrarian investing – Doing the opposite of what everyone  around you thinks! Because business and finance – like life – is cyclical!

As early as the 1840s, in his remarkable book, Extraordinary Popular Delusions and the Madness of Crowd, Charles Mackay observed: “We find that whole communities suddenly fix their minds upon one object and go mad in its pursuit; that millions of people become simultaneously impressed with one delusion, and run after it…Sober nations have all at once become desperate gamblers and risked almost their existence upon the turn of piece of paper …Men, it has been well said, think in herds …go mad in herds, while they only recover their senses slowly and one by one.”

In its true essence, contrarian investing is the practice of bucking the herd. Contrarians buy when everyone else is panicking and selling, because they know that a flood of stock sales means that the market is near, or at, its bottom and will soon begin to recover. They sell whenever investors become extremely optimistic, because when everyone is buying that usually means the market is at or near a peak and is about to take a dive.

Following the mantra “if everyone’s doing it, it’s wrong,” contrarians will do just the opposite of what the surveys suggest: they will buy stock when everyone is screaming “sell” and sell when everyone is screaming “buy.”

A HIGH RISK STRATEGY

The contrarian looks like an idiot most of the time and when they clean up to the dismay of the herd when the trend reverses, they can be dismissed as lucky. So it’s a difficult life!

Like all market timing strategies, contrarian investing is far riskier than a buy-and-hold investing strategy. Also you need a lot of information  or time in the market to be a successful contrarian investor. Sometimes it just means believing that a company that has been beaten-down has long-term potential. If you buy a company like this and hold on to it — hopefully reaping future rewards — you can be a long-term contrarian investor.

But often it does pay off well especially if you are patient – After all, it was Warren Buffet who advised investors to “be fearful when other are greedy, and greedy when others are fearful.” There’s a saying contrarians can rally around!

THE 6 FAMOUS CONTRARIANS

Wall Street hated every one of these people at first – Yet they went on to make billions of dollars for investors in the real world! These 6 people are possibly the greatest contrarian investors the world knows!

  1. JIM ROGERS

Jim Rogers is one of the most successful investors of our lifetimes. Starting out in his twenties with $600 in his pocket, he “retired” at age 37 with more money than anyone could possibly spend.  Focused around agriculture and commodities.

  1. MARC FABER

Born in Switzerland and educated in Geneva and Zurich, Dr. Marc Faber received his PhD in Economics from the University of Zurich at age 24.  The former managing director at Drexel Burnham Lambert from 1978-1990 has lived in Hong Kong for the past two decades.  He concentrates on Asian market niches with tremendous upsides.His motto is “Follow the course opposite to custom and you will almost always be right.”

  1. JOHN TEMPLETON

In 1939, a young farm boy from Tennessee went into his boss’s office and begged for a $10,000 loan.  He got it, and invested the 10 grand in every small-cap stock trading on a major exchange for $1 or less.  There were 100 stocks in all, and John Templeton bought ’em just as stocks were most hated. Then he watched as those 100 stocks led the U.S. out of the Great Depression – and Templeton into the Investing Hall of Fame.

  1. SAM ZELL

Not far behind Templeton with a net worth of about $1.8 billion, Sam Zell is known as the father of Real Estate Investment Trusts (REITS).  He began buying real estate in down markets in the 1960s and, with his partners, speculated with spot-on accuracy for the next four decades running.

  1. EDUARDO ELSZTAIN

In 1990, an unknown young man from Argentina walked into the New York City offices of George Soros and sweet-talked him out of $10 million.  Not an easy thing to do considering Soros’ reptuation.  But Elsztain turned the $10 million into a $500 million Argentine real estate portfolio.  Investors who got onboard with him and Soros in their Dolphin Fund would have turned $100,000 into $1.9 million in a decade.

  1. GEORGE SOROS

In 1970, this Hungarian-born contrarian investor-philosopher created the Quantum Fund with Jim Rogers. It went on to return about 3,999%, compounded, over the next 30 years. Soros is famous for going short the British pound and earning $1 billion in a single day: Black Wednesday, 1992.   He was dubbed the “Man who broke the bank of England” for his move, which forced major reforms to the British banking system.

 CONTRARIAN INVESTING IN STOCKS

Some famous Indian contrarian investors have clout and therefore they may influence popular opinion once they pick up stakes in certain companies or sectors. So one easy way out could be to look at where the “contra herds” are moving!

But if you are a true blue contrarian, one would need to look at quite a lot of other variables or indicators apart from ideas from consensus recommendations from Bloomberg or Reuters and how they are moving. For instance, someone aggressively investing in IT would have known that the USD Index had resumed appreciation in 2017 from lows of 79 on the DXY and that US growth would propel demand for outsourcing – impacting Indian IT while the rest of the world was ignoring stocks like Infy (was available around  Rs 1000 , at almost a 30% discount to ITCs and less than  12x multiples).

Or that pre elections there are bound to a be a lot of announcements in the sugar sector and with Modi’s announcements in August, some action on ethanol blending with crude could be likely.

Apart from news, one also might want to look at historical P/E and P/B trends for stocks and see if the current valuations are at extremes and therefore bounces are likely as cyclicality of demand returns.

Remember contrarian investing differs from distress investing – one may need to keep the risk reward in mind. Distress stocks may never return to their previous valuations while business cyclicality stocks would do so.

For instance, now the entire world presumes that the INR would continue to weaken and  that 10 Year India GSec yields would continue to go higher – would you dare sell IT and go long Gilt funds?

Finally, the consensus estimates may be a good way to shortlist what analysts think – if prices are moving in an opposite direction to trends in  quarterly consensus estimates, one might want to look at these stories very carefully and shortlist some of them for the longer term.

Remember – Contrarian Investing is not investing in the fallen nor does it mean catching falling knives – it means investing intelligently into good businesses temporarily out of favor.  Price alone doesn’t tell you this – you need to spend much more time with your due diligence.

If you don’t have the time, going the mutual fund way may be a very good option!

CONTRA INVESTING VIA MUTUAL FUNDS

The recent re-categorisation of mutual funds has created a new type of equity mutual fund, called contra fund and each fund house can have either a contra or a value fund and not both.

Buying into contra ideas entails in-depth research and understanding of the market and the companies that the manager seeks to invest in. Given that the idea is to invest against the consensus, there is an element of added risk as distressed stocks could perform against expectations.

These assets typically do not perform in the short term and therefore the fund investors become impatient faster – and make life difficult for the fund managers – No wonder then that there are very few takes for this category of funds!. There are only 3 fund houses in India offering these schemes now.

However, this strategy can provide higher returns than other multi-cap stocks in the long haul apart from ideally giving a natural hedge in times of market volatility. This fund type is more popular in evolved markets like the US. As and when investors in India evolve and become more mature, contra funds are expected to gain popularity.

The level of patience and optimism required is a little higher in this kind of fund. Only if the fortune of the contrarian stocks spans out in the same direction as what was thought out, then it can lead to potentially bumper returns in the long run.

 

OUR CURRENT MF RECOMMENDATION

Invesco India Contra Fund

The Invesco India Contra Fund is currently the only PL recommended scheme in the Contrarian space and is a BUY recommendation even at a thematic level- which includes Value Funds. The fund has managed to strike a balance between contrarian investing and market momentum and  has even  managed to get a 3-4 percent alpha over the index which is fairly healthy. The fund has delivered 20 percent in the last one year – with picks like Reliance, HCL Tech, ITC, Cipla. This fund has generated a return of 21.26 per cent in the last one year compared to the category average of 8.94 per cent. Last 5-year CAGR of the fund is 27.61 per cent. Reliance Industries is the top holding in the fund.

To that extent, it has maintained a balance in the sense that it doesn’t go Deep Contrarian but attempts to remain in the largecap contrarian space to ride the element of cyclicality.

We do not recommend very large exposures to contrarian strategies and prefer the Multicap themes but if you are looking at pure contrarian plays, this fund would be a good way to start.  With the markets doing extremely well, investors are often scared of “getting in at the top” and  the contra theme therefore makes sense to such investors as the stocks have not possibly realized even close to what their true potential may be.

IS CONTRA FOR YOU?

Contra stocks or funds are possibly the ones which investors need to live with a little more patience at their end than other strategies. It’s simply because of the fact that some of these value plays tend to take a little bit of time to crystallise as stories, what we eventually expect out of those companies. These stories may not immediately start working in your favour in the first few months after you buy them. So, you have to take a slightly incremental approach. One should ideally start with a nominal position and then build it up as one sees the story panning out in the right direction and hopefully before everyone starts jumping into the fray.

To invest in our recommended funds or to understand our stance on stocks, please do email  us at mfss@plindia.com

 

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